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Debtor's Life Insurance Policy Belongs to Bankruptcy Estate

May 23 — The cash surrender value of a debtor's life insurance policy is part of the bankruptcy
estate, a district court in Georgia held May 16.

Judge J. Randal Hall of the U.S. District Court for the Southern District of Georgia
looked to Georgia state law, and affirmed the bankruptcy court's conclusion that the
life insurance policy was a contract, not a “trust.”

When a debtor files for bankruptcy, his property becomes part of the bankruptcy estate
and “is thereby exposed to creditors,” the court said. The debtor may “exempt certain
kinds of property from this exposure,” the court said, and Bankruptcy Code Sections
541(b) and (c)(2) provide for certain kinds of property that aren't property of the
bankruptcy estate.

Section 541(c)(1)(A) provides that “a debtor's interest in property becomes part of
the bankruptcy estate ‘notwithstanding any provision in an agreement, transfer instrument,
or applicable nonbankruptcy law that restricts or conditions transfer of such interest
by the debtor,'” the court said. Section 541(c)((2), the court said, is an exception
that enforces restrictions on transferring a debtor's beneficial interest in a trust.

Defining a ‘Trust.'

The Bankruptcy Code doesn't define the term “trust,”
but “courts have relied on applicable nonbankruptcy law to determine if a fund is
a ‘trust' for purposes of the section,” according to , pt. II, ch. 69 (D. Michael Lynn et al. eds., 2016).

“Trusts come in many varieties, and a precise definition … may prove elusive,” the
court said. Thus, the court looked to the Revised Georgia Trust Code of 2010, which
defines a “trust” as “an express trust or an implied trust but shall not include trusts
created by statute or the Constitution of Georgia.”

By contrast, the Georgia Insurance Code defines “insurance”
as “a contract which is an integral part of a plan for distributing individual losses
whereby one undertakes to indemnify another or to pay a specified amount of benefits
upon determinable contingencies,”
the court said, citing O.C.G.A. § 33-1-2(2). The relationship between an insured and
an insurer isn't confidential or fiduciary in nature,” the court said.

“[A] life insurance policy resembles a typical contract and not a trust,” the court
concluded.

Life Insurance Policy Exempt?

Debtor Christopher Mohr filed for Chapter 11 protection, but the case was later converted
to one under Chapter 7. In Chapter 7 bankruptcy, a debtor's nonexempt assets are liquidated
by a trustee, and the proceeds are distributed to creditors. Chapter 11 reorganization
is for businesses or individuals whose debts exceed the statutory thresholds for Chapter
13 bankruptcy.

The debtor amended his bankruptcy schedules to include the cash surrender value of
his life insurance policy valued at $18,000 as exempt.

The trustee objected to the exemptions claimed under a Georgia statute.

The debtor argued that Section 541(c)(2) excludes the entire value of his life insurance
policy from the definition of property of the estate, and noted that the issue was
pending before the U.S. Court of Appeals for the Eleventh Circuit.

Policy Not a ‘Trust.'

The bankruptcy court ruled in the trustee's favor, concluding that the cash surrender
value of the debtor's life insurance policy over and above the amount of $7,099 is
part of the bankruptcy estate. The Eleventh Circuit in In re McFarland, 2015 BL 197591, 790 F.3d 1182
(11th Cir. 2015), held that life insurance policies aren't exempt under O.C.G.A. § 33-25-11(c),
the court said.

The court also determined that the policy was not a “trust” as used in Section 541(c)(2).

The debtor appealed the bankruptcy court's finding that the policy wasn't a “trust”
under Section 541(c)(2).

According to the debtor, O.C.G.A. § 33-25-11(c)
restricts the transfer of his interest and thereby creates a trust under Section 541(c)(2).
The debtor relied on In re Meehan, 102 F.3d 1209 (11th Cir. 1997), which held that the anti-alienation language found in a state statute
was all that was needed to remove an IRA as property of the estate.

The district court rejected the debtor's interpretation of Meehan, saying that the case offered “no support” to his argument.

The court agreed with the debtor that O.C.G.A. § 33-25-11 is a nonbankruptcy law that
restricts the transfer of the cash surrender value of a life insurance policy, but
that section of Georgia's Insurance Code doesn't create a “trust,” the court said.

Because a life insurance policy is a contract and not a trust, Section 541(c)(2) doesn't
apply, and the cash surrender value of the policy is property of the bankruptcy estate,
the court concluded.

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